Global Economy Can No Longer Count on China for Growth
Globally, the markets remain extraordinarily volatile with oil and stocks acting like kids at the end of a seven-hour drive home from vacation. The latest news trigger appears to be (quelle surprise!) that China’s PMI numbers are weak. Folks, the Caixin Flash PMI was out in August and therefore Tuesday’s “official” PMI number should not have been shocking. This is a market asking questions and getting answers it doesn’t stomach well. Clearly, the main issues are the deceleration in global growth via China, uncertainty surrounding the pending US interest rate hike, and the dearth of US earnings.
For China, this is the downside gift that just keeps giving. I think I’ve read ten separate reports detailing the ineptitude of China’s attempts to arrest the slide of the stock market and the inability of authorities to understand their role in the problem. I love the BBG stories of a “plunge protection team” that goes to work everyday at 2PM to stop the slide in Chinese shares or how President Xi told financial authorities to ensure stocks stopped sliding for his visit to Russia that touted Chinese economic strength. To make economic matters worse, China is shutting down factories around Beijing in anticipation of a two-day festival celebrating the end of World War II for Thursday and Friday. Can this get any worse? Of course it can!
Speaking of an inability to communicate, the Fed is all over the map with their monetary policy commentary. First, Yellen says they’re on course for a fall rate hike. Then, Dudley says not so compelling. Then Bullard says yes it is. And finally, Fisher says to expect higher inflation soon. This episode should hit you between the eyes with this fact: the Fed has no idea when they will raise rates or by how much. They have no experience with this process of going off the zero interest rate bound with a balance sheet over $4.4 trillion and $2.5 trillion in excess reserves. The verbal vomitorium is unhelpful and indicates a Fed twisting in the wind at the breeze of every economic and political event. It creates uncertainty and indicates the ineffectiveness of monetary policy utilizing QE. If things turn sour from here, the Fed has only to turn to another round of asset purchases to start the party again.
Finally, the earnings picture is a troubling one to be sure. I go back to the discounted cash flow model of explaining why anyone buys stocks in the first place. From our friends at Investopedia:
DEFINITION of ‘Discounted Cash Flow – DCF’
A valuation method used to estimate the attractiveness of an investment opportunity. Discounted cash flow (DCF) analysis uses future free cash flow projections and discounts them (most often using the weighted average cost of capital) to arrive at a present value, which is used to evaluate the potential for investment. If the value arrived at through DCF analysis is higher than the current cost of the investment, the opportunity may be a good one.
Two things jump out: the numerator has been declining and the denominator is expected to increase. Translation: DCF is telling you the value of earnings into the future is going to be less.
Wrapping all of this up, we’re at an unfortunate point in the markets and the global economy, which calls for change. Difficult change. Serious change required to lift productivity in the economy to drive growth and move away from monetary stimulus. Massive Chinese credit expansion after 2009 has generated growth and a big debt hangover. The world can no longer rely on them to drive demand for commodities and imports at the level that lifted many EM GDP boats. From Europe to Japan to China to the US, governments must enact economic reforms like reducing regulatory burdens or simplifying the tax code to bring about the change that is needed. Politically, this is a heavy lift and requires leadership. At this point, the markets don’t believe this exists.
We engage chief market analyst from The Lindsey Group, Peter Boockvar, to discuss the recent market volatility and what the central banks are doing to deal with it.
Peter thinks we’re on the cusp of a large move down in stocks.
Peter provides a very unpopular position: we need rate hikes to create a recession reset to fix the stock market! Please subscribe, rate and review the show, we appreciate your help!
Posted on AndrewBusch.com.
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